Flypaper effect, intergovernmental transfers, income and substitution effects, marginal cost of public funds

Cristian Sepulveda ()

Hacienda Pública Española / Review of Public Economics, 2017, vol. 222, issue 3, 91-108

Abstract: This paper provides a new explanation for the flypaper effect, a well known empirical result whereby transfers to a government increase public expenditures more than an equal amount of additional tax¬payers’ income. The flypaper effect is fully explained by taxpayers’ behavioral responses to the tax rate and income. A lump-sum increase in income is shown to lead to three effects on optimal government decisions that have not yet been described in the literature. The flypaper effect arises simply because public expenditures are cheaper when financed with intergovernmental transfers.

Date: 2017
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